This chapter explains the role, functions, and importance of money and banking in the economy.
Money And Banking – Formula & Equation Sheet
Essential formulas and equations from Introductory Macroeconomics, tailored for Class 12 in Economics.
This one-pager compiles key formulas and equations from the Money And Banking chapter of Introductory Macroeconomics. Ideal for exam prep, quick reference, and solving time-bound numerical problems accurately.
Key concepts & formulas
Essential formulas, key terms, and important concepts for quick reference and revision.
Formulas
M1 = CU + DD
M1 is the measure of money supply where CU is currency held by the public and DD is net demand deposits with banks. It represents the most liquid form of money.
M2 = M1 + Savings Deposits
M2 includes M1 plus savings deposits in Post Office savings banks. It accounts for slightly less liquid forms of money.
M3 = M1 + Net Time Deposits of Commercial Banks
M3 includes M1 plus net time deposits. M3 is regarded as broad money and includes more liquid forms compared to M4.
CRR = (Cash Reserves / Total Deposits) × 100
Cash Reserve Ratio (CRR) indicates the percentage of deposits that banks must hold as reserves. It helps regulate the money supply.
SLR = (Liquid Assets / Total Demand and Time Liabilities) × 100
Statutory Liquidity Ratio (SLR) is the percentage of liquid assets that commercial banks must maintain. It ensures solvency.
Money Multiplier = 1 / CRR
The money multiplier shows how much money supply can increase based on the reserve requirement. A lower CRR leads to a higher multiplier.
Demand for Money: M_d = kPY
M_d represents the demand for money, where k is a constant, P is the price level, and Y is real GDP. It expresses the relationship between money demand and economic output.
Transaction Demand: M_d^T = kT
Transaction demand for money (M_d^T) is proportional to total transactions (T) in the economy, where k is the constant.
Speculative Demand: M_d^S = (r_max - r)/(r_max - r_min)
Speculative demand for money (M_d^S) relates to expectations about future interest rates (r_max, r_min). It shows the inverse relationship between interest rates and money demand.
Open Market Operations: ΔMS = ±ΔSecurities
Changes in money supply (ΔMS) occur through the buying or selling of government securities. Purchases increase the money supply; sales decrease it.
Equations
V = T / M_d
Velocity (V) of money represents the speed at which money circulates in the economy, defined as the total transactions (T) divided by the demand for money (M_d).
Total Deposits = Initial Deposits + Loans
This equation indicates that total deposits in a banking system increase due to initial deposits and the loans created from them.
Net Worth = Assets - Liabilities
Net worth shows the financial position of a bank, with assets including loans and reserves, while liabilities mainly consist of customer deposits.
M_1 = Currency + Demand Deposits
This formula captures the essence of M_1 as the total of physical money in circulation along with funds available on demand.
Government Bonds = Liabilities of Central Bank
Government bonds represent borrowings by the government and equate to an increase in the liabilities of the central bank when sold in open markets.
Money Supply = Currency + Deposits
Money supply in the economy is composed of total currency (notes and coins) and demand deposits in banks, forming the base of monetary transactions.
Purchasing Power = Money Supply / Price Level
This equation defines purchasing power as the relationship between total money supply in an economy and the overall price level.
Total Assets = Cash Reserves + Loans
This is an accounting identity that shows how a bank's total assets are divided between cash reserves (held at the central bank) and loans given to customers.
Required Reserves = Total Deposits × CRR
Required reserves are calculated as a percentage (CRR) of the total deposits held by the bank, ensuring financial regulation.
Bank Rate Effects: ↓ Bank Rate = ↑ Money Supply
A decrease in the bank rate makes borrowing cheaper, leading to an increase in money supply as banks are encouraged to lend more.
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